How much longer can markets discount political risk in Europe?
The ECB are expected to announce a 50% cut in their asset purchase program to EUR35bn from 2018, with any deviation from this likely to impact the Euro. The Euro has rallied aggressively this year on expectations of monetary policy tightening by the ECB, so there could well be risk of “buy the rumour, sell the fact” price action post the announcement. Spanish Prime Minister Mariano Rajoy has stated he will dismiss the Catalan government and seize control of police, television and radio networks. The Catalan President Puigdemont has vowed to fight on as separatists consider a unilateral independence declaration. Without trying to take a political stance we are concerned by the Spanish government’s stated intention to seize Catalan media assets, as we expect that will only strengthen resolve of the independence movement, and the apparent absence of dialog could give way to a more violent path. With the situation in Spain stirring up painful memories of the Franco dictatorship, a hung German Parliament, and potential for the new Austrian government containing the ultra-right wing Freedom party we believe that political risk is very under-priced in the Euro at the moment. The Trump impact on the USD has been significant, but the market may well realise soon that Trump is temporary and the issues in Europe are deep, structural and are here to stay; such a realisation (if it comes) could have a dramatic impact on currency markets.
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